If you are looking at the materials space, then you've probably heard of giant and diversified DowDuPont Inc. (DD 0.29%), which at this point is really three companies in one. You've likely also seen the meteoric rise and fall of lithium, a key industrial metal on which Albemarle Corporation (ALB 1.65%) is increasingly focused. Both stories here are interesting, but is either of these tales compelling enough to make one stock a better buy than the other?
Getting big to get small
It wasn't too long ago that Dow and DuPont completed their merger. These two iconic American companies were facing difficult times, and believed that they could materially reduce costs by combining; once some of the excesses were wrung out, they expected to break up again. The end result would be a mix and match project that put the various parts into the most appropriate entity to make new, more focused companies. DowDuPont is now nearing the point where it will start to break up, with the goal being the creation of three distinct entities: Dow, DuPont, and a new company named Corteva Agriscience.
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Dow is slated to own DowDuPont's materials sciences business; DuPont is going to be focused on specialty products; and Corteva, as the name implies, will take DowDuPont's agriculture business. The actual break up is slated to begin in April, with Dow being spun out. Then, in June, Corteva is going to be jettisoned. Each of these newly formed companies will have their pluses and minuses. That's the real story here, because you have an opportunity to be a little selective.
The big question mark of the new companies is agriculture-focused Corteva, which is projecting flat 2019 stand-alone revenue growth. Longer-term, it hopes to grow in the low single digits. Dow and DuPont have brighter outlooks. However, the really big issue is that agriculture markets haven't been particularly great recently, with U.S. farmers struggling to make ends meet. In fact, the US Department of Agriculture is expecting 2018 farm incomes to be 35% below their 2013 levels. Although Corteva is expecting to wring out material costs from the combined business, its collection of seeds, traits, and crop protection products will be facing an uphill battle if farmers are short on cash. At this point, it would probably be better for investors to avoid this entity.
The problem is that Corteva will be the last unit broken out of DowDuPont. In other words, investors would probably be better off waiting for the break up to be completed before jumping in here and effectively taking a position in each of these businesses. Waiting will allow investors to pick the company they like best.
Check out the latest earnings call transcripts for DowDuPont and Albemarle.
Making a big bet
Albemarle is in a totally different position. It currently operates in three different lines, bromine (a fire retardant used in electronics), catalysts (primarily used in the energy sector), and lithium, which is the one that makes all of the headlines. Lithium is a primary input into batteries, and there's an expectation that electric vehicles will lead to huge demand growth for lithium.
The company is using its bromine and catalysts businesses to help fund the expansion of its lithium operations to meet that projected demand. And the numbers are huge: Albemarle is expecting to increase its lithium production 30% in 2019, nearly 50% in 2020, and another 30% or so in 2021. And it projects that it can increase production another 60% beyond the 2021 total as needed. That sounds aggressive, but the company's lithium demand projections call for 18% annualized demand growth between 2017 and 2025, driven largely by electric vehicles.
The problem is that lithium is a commodity subject to investors' emotional swings. In 2017 investors were hot on the commodity and drove Albemarle's stock higher. In 2018, investors cooled on lithium and Albemarle's stock. It didn't matter that the company's underlying performance remained fairly strong, with revenues up 10%, adjusted EBITDA growing 14%, and adjusted earnings expanding 19%. Within the headline-grabbing lithium business, production growth offset commodity price weakness. The other two divisions (which make up about 60% of the top line), meanwhile, saw generally solid results, with adjusted EBITDA up 11% at each. This highlights the value of Albemarle's diversified approach, combined with an aggressive expansion effort in lithium -- even if investors tend to only pay attention to the 40% of revenue derived from lithium. And even there, more attention is given to the price of lithium than the actual results of the division.
That points to the true story here: Albemarle is betting its future on lithium, with the CEO even suggesting that some day it may become a pure play. Investors who buy into the long-term demand story for the key battery making material should be interested in Albemarle. Over short periods of time, though, the stock is likely to wax and wane with the price of the metal, regardless of the underlying dynamics taking shape at the company.
If the long-term bet on lithium pays off, Albemarle could be a huge winner. But investors who don't buy into the lithium story or can't handle short-term price swings would be better off avoiding Albemarle stock.
Who wins?
When you put DowDuPont up against Albemarle, the quick answer is that Albemarle wins. That's not because DowDuPont is a bad company, but because the soon-to-be-broken-up parts have different outlooks. And investors would be better served picking and choosing over buying today before the breakup and owning all of the parts.
Albemarle, however, isn't a slam dunk investment. There's a material amount of uncertainty in its plan to double down on lithium production. It's going about its growth plans in a constructive manner, using its diversified business as the foundation for growth. However, if you can't handle commodity price swings or don't believe that lithium is going to be in high demand, then Albemarle isn't for you. That said, assuming lithium demand lives up to the company's expectations, Albemarle has a bright future ahead of it.
